logo academy

Stellar: Crossing all Borders of Finance

December 1, 2020
11 min
Stellar: Crossing all Borders of Finance
Beginner
You will learn

    The Stellar blockchain is an open-source network created to allow the free circulation of any global currency in a very cheap and fast way. Because of the way the global financial establishment is structured today, people are born into an economic system just as they were born into a political system. Stellar is a way out: it allows people to participate in a stable, global financial network, regardless of where they live.

    stellar

    Stellar’s mission

    While most new blockchains want to become a better peer-to-peer network than the next, trying to be faster and cheaper for daily payments, Stellar aims higher. Its blockchain is designed so that all the world’s financial systems can work together on a single network. This means that any type of traditional currency or asset can be tokenised and circulate freely.

    The current global financial infrastructure has a communication problem. There are hundreds of different currencies and payment systems. Each speaks a different language, has different levels of accessibility and has different laws to comply with. This can make moving money around the world slow and expensive.

    The Stellar blockchain is designed so that all the world’s financial systems can work together on a single network. This is made possible by the tokenisation of any type of traditional currency or asset.

    To ensure net neutrality, the project is led by the Stellar Development Foundation (SDF for short), a non-profit foundation created in 2014.

    Lumen (XLM)

    The Lumen is a token used as a means of exchange to interact with the Stellar network. Transaction fees are set at 0.00001 XLM and each account to make or receive a payment must have a minimum of 1 XLM.

    These minimum amounts of Lumen required reflect the philosophy of the foundation of “one finance for all” and, at the same time, are high enough to discourage hypothetical attacks on the network and the creation of spam accounts.

    Unlike tokens from other blockchains, the lumens are not mined or assigned to validators over time. The 100 billion tokens were created when the Stellar network became operational, and for the first 5 years of Stellar’s existence, the lumen supply also increased by 1% per year.

    However, in October 2019, following a community vote on inflation, the Stellar Development Foundation halved the total supply of Lumens, burning 55 billion. This cut had a positive effect on the price of Lumen and of the remaining 50 billion Lumens, 23 are on the market and 27 are in the hands of the Stellar ecosystem support team. These will be made available in the coming years.

    Stellar Use Cases

    Stellar was designed to improve rather than replace the existing financial system. It works mainly for people and countries without access to financial services, implementing projects specific for small communities and providing them with a decentralised payment network.

    Thanks to Stellar, anyone can buy and dispose of any digital token, with the certainty of a 1:1 equivalent. In other words, anyone can own the value of a dollar without having a bank account in the United States.

    For example, a citizen of a country suffering from hyperinflation may hold part of his family’s net worth in dollars. A US company can pay a Mexican retailer in dollars, and the seller can pay his or her suppliers, with a five-second wait, instead of five days, for the transaction to be validated.

    In this case, while the original currency physically does not move, the token payment can circulate without geographical limits and with insignificant fees.

    stellar

    How Tokenisation works on Stellar

    To ensure that any currency can circulate on the network, Stellar uses a token system, i.e. it creates a digital representation of the currency that must be conveyed with a value of 1:1.

    The features of the token are:

    • Redeemability. It can be redeemed in the asset it represents at any time.
    • Tradability. It can be bought, sold or exchanged with anyone, regardless of their location on the globe.

    “Asset” means anything that can be represented as a token. Not just euros, dollars, Mexican pesos, Argentine pesos, Brazilian reais or Nigerian naira. But also gold, a stock, or a property. In other words, anything of value.

    Each of the tokens created is guaranteed by an equivalent deposit. For example, 50 token-Dollars are guaranteed by 50 traditional dollars. So those who hold the tokens can treat them just like traditional money because they know they can redeem them at any time.

    Convert your token while sending it

    No intermediary oversees the settlement and no entity acts as an intermediate custodian. In short, there is a decentralised exchange (also known as DEX) integrated into Stellar’s ledger.

    Thanks to this DEX feature, Stellar also allows a user to send one currency and have the recipient receive another. Basically, you can send and simultaneously convert money in a single transaction. This is called path payment.

    stellar

    It is a powerful innovation for international payments; for example, an Italian company can pay an invoice from a Scottish supplier by spending token-Euro, while the seller receives token-Sterling. None of the parties incurs delays or exchange risks. Both parties just get the currency they want.

    Anchors

    To facilitate the transfer of value from the traditional banking system to Stellar, the network relies on Anchors. They are regulated financial institutions, monetary service companies or fintech companies offering one – or both – of the following services:

    • Issuing 1:1 fiat tokens (also known as stablecoins) and maintaining fiat reserves equivalent to the value of the tokens issued, so that users can redeem them in fiat at any time.
    • Connecting the Stellar network to each country’s banking system while maintaining a service that manages regulatory processes such as KYC/AML and allows users to make deposits and withdrawals seamlessly.

    Anchors are to all intents and purposes integrations that each local banking institution can and must make if it wants to participate in the Stellar network.

    Anchors are like local Stellar points of reference, allowing you to use any asset with all the advantages of a decentralised and compliant system, which will honour any debt.

    For example, from Mexico, I can pay a friend in Texas by depositing Pesos to an Anchor. The Mexican Anchor will deposit the pesos in a dedicated reserve account and will issue the same value in the form of token-Pesos on Stellar. At that point, I will have my token-Pesos available to pay my friend in Texas.

    In a few seconds, he will receive the token-pesos or the equivalent converted into token-dollars (if I decide not only to transfer them but also to convert them into his local currency during the transaction). I will pay a very small fee and my friend will be able to redeem in Dollars the tokens I sent him with a US Anchor or continue to exchange them on Stellar.

    To have a look at Stellar’s projects and partners you can check out the official page by clicking here.

    Jed McCaleb: From Ripple to Stellar

    As the most dedicated readers may notice, Stellar has a very similar premise to that of Ripple. It is therefore not surprising that the founder himself, Jed McCaleb, is behind it.
    While Ripple is more business-focused, Stellar is more retail-oriented in nature, i.e. it was created for the people.

    ripple

    Similarities between Ripple and Stellar

    • Both were born with the aim of connecting financial institutions and reducing the costs and times of cross-border payments.
    • They are not based on a proof-of-work system and, therefore, cannot be mined.
    • Both have a Total Supply of 100 billion coins. However, in October 2019, following a community vote on inflation, the Stellar Development Foundation halved the total supply of Lumens, burning 55 billion coins.

    Differences between Ripple and Stellar

    stellar

    Start using Stellar

    On the official Stellar website, you have the opportunity to follow step-by-step guides to participate in the network. Click here and find the solution you were looking for if you are:

    • a user
    • a token issuer
    • a financial institution that wants to become an anchor
    • an exchange

    Diving Deeper: The Stellar Consensus Protocol

    The Stellar blockchain is based on the Stellar Consensus Protocol (SCP) algorithm, in turn, based on the FBA (Federal Byzantine Agreement), invented by Ripple but successfully implemented for the first time by Stellar.

    Stellar’s protocol differs from Bitcoin‘s for two reasons.
    On the Bitcoin network, validators compete with each other to verify transactions through a process called mining. This requires very expensive hardware and considerable energy consumption. When validators disagree on one aspect of the protocol, soft or hard forks occur.

    Stellar, on the other hand, allowing the creation of digital versions of traditional assets, such as gold or dollars, had to find a way to prevent the duplication of these same digital replicas. This is known as the problem of double-spending.
    Therefore, Stellar developed a unique way to regulate transactions developed by researchers at Stanford University. The protocol is in fact based on the internal cooperation of nodes rather than competition.

    In this system, each node in the network selects the nodes it trusts, forming “quorum slices“.

    In the picture below, for example, the Node A selects the Node B and C as its trusted nodes, forming the ABC Quorum Slice. Node B and C will in turn select their own trusted nodes, that could include A or any other node.

    stellar

    These quorum slices overlapping with each other form the consensus network (see the picture below). This intertwining of trust networks makes any attempt to maliciously control the network impossible.

    stellar

    The validation of transactions on Stellar consists of a simple transmission of the vote by the nodes, that authenticate their vote with their private key.
    A possible attacker, therefore, could not exploit computing power to take control of the network since no computational activity is required. In addition, it is impossible with current technology to trace a private key.
    This validation mechanism makes Stellar almost instantaneous, with an average time of 3-5 seconds for transaction settlement.

    Related